German Labor Court Sets New Standards for Bonus Clauses in Employment Contracts In a recent judgment, the federal labor court set new standards for retention clauses in connection with bonus payments. This judgment will have a significant impact on bonus clauses in employment contracts, particularly in the financial services industry, where bonuses often greatly exceed an individual’s base salary. Background of Repayment and Nonpayment Clauses By way of background, employment contracts that provide for bonus payments often include a retention clause, which provides that the bonus either has to be repaid (repayment clause) or will not be paid at all (nonpayment clause) if the employment relationship ends, or if notice of termination is given, within a certain period from the end of the bonus year, e.g., by March 31 (if the bonus year is the calendar year). The federal labor court has held since 1962 that the enforceability of repayment clauses depends on the amount of the bonus. A repayment clause was unenforceable if the bonus amounted to no more than EUR 100 (formerly DEM 200). If the bonus exceeded EUR 100 but did not reach the employee’s monthly gross remuneration, a repayment clause was unenforceable if it required the employee to remain employed beyond March 31 of the following year. If the bonus amounted to at least the employee’s monthly gross remuneration, a repayment clause could require the employee to remain employed beyond March 31 of the following year (typically until June 30). In principle, retention beyond June 30 of the following year was also possible, although the federal labor court has not yet determined the exact circumstances under which this may be the case. What can be said is that a bonus of twice the employee’s monthly gross remuneration does not suffice to bind the employee beyond June 30 of the following year if the employee has at least two opportunities to give notice of termination before then (which depends on the notice period that applies in the individual case). With respect to nonpayment clauses, the court historically has distinguished between clauses that refer to a date within the bonus year (e.g., December 31) and clauses that refer to a later date. Nonpayment clauses with a reference date within the bonus year had been held enforceable without any further requirements. With regard to later dates, the court had explicitly rejected the view that nonpayment clauses should be subject to the same rules as repayment clauses. The court had held that an obligation to repay the bonus (which the employee may have already spent) would affect the employee’s freedom to choose employment more than would a bonus which the employee would not receive at all. Therefore, the court treated nonpayment clauses more leniently than repayment clauses, and it depended on the circumstances of the individual case whether or not a retention period was excessive. Factors to be taken into account in this context included, for example, the length of the period between the end of the bonus period and the date of payment; the number of opportunities to give notice of termination the employee would have to waive to receive the bonus; the length of the period the employee would be required to remain employed; and the amount of the bonus. On this basis, the court had held enforceable a nonpayment clause that required an employee to remain employed until June 30 of the following year in return for a bonus of only about half the employee’s monthly gross remuneration. In a judgment dated October 24, 2007, published in December 2007, the federal labor court took a completely new approach and distanced itself from former decisions. The court’s starting point is the 2002 contract law reform, which provides that clauses in individual employment contracts must not put the employee at an unreasonable disadvantage. Such unreasonable disadvantage is deemed to exist, for example, where the wording of a clause is not clear and comprehensible. In the new case decided by the court, the wording of the bonus clause was ambiguous as to whether or not the employee should be entitled to a bonus. The court therefore held that the bonus clause was unenforceable to the extent that it explicitly excluded any bonus entitlement. The court also decided whether or not the retention clause in the employment contract was enforceable. The retention clause provided that no bonus would be paid if notice of termination were given prior to April 1 of the year following the bonus year. In connection with a contract that also included a notice period of at least three months to the end of a calendar quarter, this retention clause would have required the employee to remain employed until September 30, irrespective of the bonus amount. The court regarded this as an inappropriate disadvantage for the employee and therefore held that the employee, in principle, was entitled to a bonus. The most unpleasant surprises for employers, however, are included in the dicta of the October 24, 2007 judgment. First, the court stated that it intends to subject nonpayment clauses to the same standards of review as repayment clauses. This would mean that the longstanding distinction between these two types of clauses would become superfluous and that the greater flexibility employers have enjoyed so far for using nonpayment clauses would be gone. The court further indicated that it will establish additional hurdles for larger bonuses. If a bonus amounts to at least 25% of the employee’s total annual remuneration (probably the remuneration in the bonus year), the loss of the bonus due to a retention clause is likely to be inappropriate if the termination is due to reasons beyond the employee’s control, e.g., operational reasons. This is a remarkable turn, as the court very recently, in a judgment on March 28, 2007 concerning a repayment clause, held that the reasons for termination are irrelevant, without any indication that the amount of the bonus might be a factor. The court went one step further and indicated that it may hold retention clauses completely unenforceable if the bonus amounts to at least 25% of the employee’s total annual remuneration. The purpose of such a large bonus to provide additional remuneration could prevail over the purposes of rewarding continued employment and future motivation. If the court were to follow this line of reasoning, the change would be even more significant. So far, the principle has been that the larger the bonus, the longer the employee can be required to remain employed if he or she wishes to receive the bonus. Now, this principle may continue to apply only to small and medium-sized bonuses but no longer to larger bonuses. For the time being, employers must take into account these new uncertainties surrounding their bonus practices. As a first step, they should carefully review the bonus clauses in their employment contracts. Those that include retention clauses most likely will not differentiate in accordance with the amount of the bonus, and presently risk being held unenforceable. Consequently, if employers wish to continue to use retention clauses, new agreements between the employers and the employees in line with the October 24, 2007 judgment may be required. Note that, depending on the individual bonus clause in the employment contract, an employee may be entitled to a bonus without signing a bonus letter, and that such a bonus letter does not help with respect to employees who have already given, or are about to give, notice of termination and will therefore not receive such letter. In the long run, though, there is no alternative to addressing the issue in the employment contract or an addendum thereto. Note further that the October 24, 2007 judgment does not apply to retention clauses in collective bargaining agreements and works agreements.



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Increasing Emphasis On Employer Accountability in the UK Simeon Spencer \| Partner, London Two recent decisions from the Employment Appeals Tribunal highlight the increasing obligations of accountability being imposed upon employers when making what have traditionally been viewed as purely management decisions. These increased obligations stem from European Directives and the requirement for domestic tribunals and courts to construe domestic implementing legislation consistently with the Directive from which it derives. In September 2007, the Employment Appeal Tribunal (EAT) considered the nature and extent of an employer’s collective redundancy consultation obligations. In what has been reported as a landmark ruling, the EAT concluded in UK Coal Mining Ltd v NUM (Northumberland area) & BAC that an employer’s obligation to inform and consult over proposed “collective redundancies” in the context of the closure of a workplace included the obligation to inform and consult with “appropriate representatives” (trade union representatives or other appropriate elected representatives) over the employer’s reasons for the closure. The rationale for the EAT’s decision (delivered by the current president of the EAT) was that in the context of the closure of a workplace, where dismissals will almost inevitably result, consultation over “avoiding dismissals” inevitably involves discussions about the reasons for the closure. As a result of this decision, it is now clear that employers that have in the past been reluctant to consult with trade unions about the underlying reasons for closure decisions will have to rethink their plans. Employers may now be obligated to begin the consultation process at an earlier stage than they may previously have done (on the basis that if dismissals are proposed when closure is proposed, then consultation should be initiated at this point and should be completed before notice of dismissals is given to the workforce). It is important to highlight three issues raised by the EAT’s decision. First, the facts of the case specifically concerned a site closure.Therefore, it remains unclear whether this same principle will be applied to other restructuring/reorganization exercises that do not involve a site closure. It is possible, under an extension of this principle, that an employer’s rationale for reducing headcount to increase profitability could also be susceptible to a claim for prior collective consultation. In the past, tribunals and courts would not attempt to second-guess boardroom decisions or indeed to engage in an ex post facto assessment of whether the desired result could have been better achieved by some other means. Now, however, it looks increasingly as though arguments that there should have been prior collective consultation in these sorts of circumstances will be looked on more sympathetically by the courts and tribunals. Second, the statutory requirement is consultation, not agreement. In the context of collective redundancies, consultation over such issues as ways of avoiding dismissals, reducing the number of dismissals, and mitigating the consequences of dismissals, should be undertaken with a “view to reaching agreement with the appropriate representatives,” but there is no requirement that agreement be reached. Essentially, the requirement is that any suggestions of representatives should be considered and responded to by management. Although consultation must clearly not be disingenuous, it need not always result in a collectively agreed-upon solution. Third, the penalty for failure to comply with collective information and consultation obligations where they apply is just that—a penalty awarded against a noncompliant employer in favor of all employees within the relevant category of “affected employees.” Crucially, the category of “affected employees” is not limited to only those who were ultimately selected for dismissal by way of redundancy. The maximum that can be awarded in such a case (see further below) is 90 days’ gross salary (with no statutory cap) per affected employee. In the autumn of 2007, the EAT handed down a decision that confirmed the strict line UK tribunals are increasingly taking against employers that fail to comply with their collective information and consultation obligations. In Evans v Permacell, the EAT reemphasized the penal nature of a protective award made because of an employer’s failure to comply properly with the information and consultation obligations. The EAT in Evans held that even where the minimum consultation period prescribed by statute was 30 days rather than 90 days, (and where there were no mitigating circumstances), the presumption of a 90-day protective award (rather than a 30-day award) applied. Notably, the EAT relied on UK Coal Mining v. NUM in reaching its decision. On the heels of these decisions, effective April 2008 workers at smaller employers will have the right to request the establishment of a Domestic Works Council. Currently, employers must have 100 or more employees to be subject to such a request. Effective April 2008, this threshold is reduced to 50 employees. This right is provided under the Information and Consultation of Employees Regulations 2004 (the ICE Regulations), and, as with an employer’s obligations with regard to information and consultation in the event of collective redundancies, the ICE Regulations also derive from the EU. A Domestic Works Council is a permanent consultative body made up of management and employee representatives whereby a UK-based employer informs and consults with its workforce about economic and employment-related matters. Such Works Councils are not mandatory, but instead are established when triggered by an appropriate “employee request.” Alternatively, some employers have themselves initiated the creation of such a body—both as an effective means of furthering good employee relations and to ensure greater input into the eventual constitution and scope of influence of the body. Employers that fail to comply with a valid employee request, or that (within a defined period following receipt of such a request) are unable to agree with their employees on the constitution and scope of influence of the body, must implement the “default” standard information and consultation provisions set out in the ICE Regulations (regulation 18). These default provisions are fairly onerous, requiring information/consultation (to varying degrees) over such things as “the recent and probable development of the undertaking’s activities and economic situation; the situation, structure and probable development of employment within the undertaking, and [ ] any anticipatory measures envisaged, particularly where there is a threat to employment; [and] decisions likely to lead to substantial changes in work organization or in contractual relations.” The penalty for failure to inform and consult as required by those standard provisions in the UK is a fine of £75,000 per breach. While Domestic Works Councils are not mandatory (and the establishment of such a body is triggered only by a valid employee request), it is clearly important that employers be aware that the ICE Regulations have widened in scope to encompass smaller undertakings—not least to ensure that all appropriate “employee requests” are recognized as such and that the appropriate mechanism is therefore triggered. Whether these recent developments will in practice result in greater worker participation in management is unclear. However, what is clear is that employers, including smaller employers that have traditionally viewed management as the sole and exclusive province of the board may now have to rethink their approach.		Simeon Spencer Condor House 5-10 St Paul's Churchyard London • EC4M 8AL Ph: +44 (0) 20 3201 5520 Fx: +44 (0) 20 3201 5600 simeon.spencer@ morganlewis.com Dr. Walter Ahrens Guiollettstraße 54 60325 Frankfurt am Main Ph: +49 69 714 007 34 Fx: +49 69 714 007 10 wahrens@morganlewis.com François Vergne 68 rue du Faubourg Saint-Honoré 75008 Paris Ph: 33 (0) 1 53 30 43 00 Fx: 33 (0) 1 53 30 43 01 fvergne@morganlewis.com
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